One of the City's most influential investors is to back an audacious attempt to consolidate Britain's flagging regional newspaper sector by merging the business interests of Lord Rothermere and Baron Iliffe.

I can reveal that Iliffe News & Media, owner of the Cambridge News and Hertfordshire Mercury, and Northcliffe Media, the regionals arm of Daily Mail & General Trust (DMGT), are in advanced talks to pool their assets into a new vehicle spearheaded by David Montgomery, the former editor of the News Of The World.

The deal will create a business with more than £250m of annual revenue and could spark a bidding war in the regional newspaper industry involving Trinity Mirror and Johnston Press, two of the three largest players.

I understand that Crispin Odey, whose hedge fund Odey Asset Management is among the most prominent names in the City, has agreed to support a deal that would combine Iliffe and Northcliffe.

They will be folded into a new vehicle called Local World plc that will be privately-owned. Mr Montgomery will own a stake in it, while Iliffe's parent group, Yattendon, and DMGT will between them own close to 50%.

The deal is also being backed by a syndicate of banks led by Bank of Ireland, HSBC and Lloyds Banking Group, which are on the verge of agreeing new borrowing facilities with the enlarged group.

A spokeswoman for Yattendon said: "I can confirm that Yattendon Group has held preliminary discussions with David Montgomery about becoming founder shareholders in a new local media company.

"We have a shared vision about the long term opportunities for local media but at this stage there is no certainty whether these discussions will lead to a satisfactory conclusion."

DMGT tried to sell Northcliffe in 2005 in a deal that would have valued the business at more than £1bn.

The proposed new transaction will value Northcliffe at little more than 10% of that price-tag, underlining the declining fortunes in the regional newspaper sector in recent years.

The industry has been hit by the waning economy as well as sharp declines in print advertising revenue and soaring print costs.

DMGT has subsequently cut hundreds of jobs at Northcliffe and switched some of its newspapers to digital-only titles to combat the slump.

Yattendon, which owns assets in agriculture, property and marine leisure as well as local media, will not take any cash out of the deal but will roll its entire newspaper investment into the new vehicle.

The group used to own titles including the Birmingham Post and the Coventry Telegraph before selling them.

The deal to create Local World has not yet been formally agreed but could be within weeks. If it does get completed, it would represent a significant step in the long-awaited consolidation of the regionals sector.

Mr Montgomery is likely to use the initial deal to pursue further mergers, potentially with Johnston or Trinity, according to insiders. Reports of his interest in Northcliffe have been circulating for the last few weeks.

A spokesman for DMGT said: "In response to media speculation, DMGT confirms that it is currently in talks regarding the future of Northcliffe Media.

"No deal or transaction has been agreed, but if these talks move to the point where agreement is reached, an announcement will be made to the market."